Last Wednesday, only two out of 31 big banks failed the Federal Reserve's "qualitative" round of bank stress tests.
And then on Thursday, Santander's biggest U.S. unit, Santander Consumer USA, was able to sell a bundle of subprime auto loans, worth $712 million, in a matter of hours.
Today I'm going to show you why this bond deal matters – and how it proves that the worst history always repeats itself…
Reward for Failure
Santander passed the Fed's first round of bank stress tests the week before, the so-called "quantitative" round that measures how much capital banks have. But it failed the second round, which is about the quality of capital management and risk management relative to what a bank says it would like to do with excess capital.
Most banks want to "reward shareholders" by increasing their dividend payouts or announcing share buyback programs. They think that's a good way to spend their excess capital. Which makes sense, because investors think banks are safe and sound and flush with capital if they're rewarding shareholders.
(That's something of a confidence trick, of course. Increasing equity by getting shareholders to buy shares and lift share prices just happens to be a neat way to get regulators off their backs.)
Anyway, in Round 2 of the stress tests, Santander was wrist-slapped for "critical deficiencies" in areas of "risk identification and risk management."
So, how is it that the very next day investors lined up to buy the Spain-based bank's subprime auto bonds that Moody's Investor Service estimated could see losses of 27%?
Surely investors know that Santander has received subpoenas from federal and state agencies looking into how subprime auto loans are made at the dealer level to folks who don't have jobs and who sometimes use an infant's Social Security number for credit verification?
If those investors read the bond documents, they must have noticed that 13% of borrowers didn't even have a FICO score.
These institutional buyers are smart men and women, so they must know that subprime auto loans (loans on credit scores lower than 640) have doubled since the credit crisis of 2007-2008 and that delinquencies and repossessions are rising.
About the Author
Shah Gilani is the Event Trading Specialist for Money Map Press. In Zenith Trading Circle Shah reveals the worst companies in the markets - right from his coveted Bankruptcy Almanac - and how readers can trade them over and over again for huge gains. He also writes our most talked-about publication, Wall Street Insights & Indictments, where he reveals how Wall Street's high-stakes game is really played.